With the economy poised to expand in double digits in the coming years, Indian companies will increase borrowing from offshore markets, especially the G7 nations, to take advantage of lower interest rates and slow recovery of these economies; Ajay Mahajan, managing director and head of financial markets and institutional banking at UBS AG’s Mumbai branch, tells Sumit Sharma in an interview. Edited excerpts:
Is the Indian economy set to grow nine per cent and more? Any concern, risk or downside?
Though in the preceding few months, we have seen sharp fluctuations in indices like that of industrial production, more recent readings of the same and the gross domestic product (GDP) growth announcement have brought confidence that the growth trajectory remains firmly in place and any hiccups are likely to be transient and not secular. Inflation and fiscal deficit remain the two structural risks to growth. The current account deficit is also a concern but it can be rationalised as due to higher capital goods imports required by the infrastructure sector — an investment for future growth. As long as India grows at nine to 10 per cent, a current account deficit of even four per cent of GDP shouldn’t be a major cause for concern as capacity building is required for future growth.
Inflation was initially led by skyrocketing food prices and later by manufactured goods. The Reserve Bank of India (RBI) has been proactive and has led the curve rather than being behind it, as it has often been blamed for. RBI raised rates well in time and managed to moderate inflationary expectations. As for the fiscal deficit, very strong discipline is required to bring it down to zero in the next few years. Since the western economies are likely to take long to recover, we must realise that the need for government spending may remain high to ensure growth is supported. We are not out of the woods yet and hence more time is needed to correct the fiscal imbalances. Only a highly cautious and calibrated approach to reining in government expenditure, more divestment and improving returns from the government sector will bring down the deficit.
If these two risks are managed well, India will be on track to double-digit growth, driven largely by infrastructure investment.
Is India getting globalised in terms of its source of funds? Is industry talk of shortage of funds slightly misplaced?
India is globalising in every aspect, the way businesses are being conducted and costs are being borne. Yet, our biggest insulation from this crisis has been the fact that over 82 per cent of our GDP still comes from domestic sources . This has kept economies like India and China afloat through the crisis.
Onshore, banks are limited by the growth of demand deposits in the system, which averages 20 per cent. When credit overtakes growth on a sustained basis, it stretches the banking system. We witnessed this when banks lent around Rs 100,000 crore towards funding licences for the telecom industry, which, in turn, created a major liquidity imbalance in the system for a long time. Keeping in mind the requirement of over $300 billion for infrastructure in the next few years, or the massive capital needed for Indian companies acquiring capacities — both, onshore and offshore — we have to access the global markets. Through their medium-term note programmes, several top public sector banks have raised sizeable monies from offshore this year to fund offshore lending. Access to the global capital markets for Indian companies and banking institutions is, therefore, a reality.
Is it a good time for Indian borrowers to tap long-term funds from overseas, especially for infrastructure?
For the first few years, most infrastructure projects have no operating cash flows to show, and hence, financing is a challenge. Having said that, there are enough pools of capital looking for high-yielding investments in infrastructure projects. The recent opening up of the foreign institutional investment limit for relatively longer tenor investments in corporate bonds is another area that could be tapped for some infrastructure projects. The yield curves in most traditional funding currencies are at their record lows, making it a very good time to raise long-term capital.
Any estimate on how much more Indian companies will be borrowing from overseas this year?
A tighter interest rate policy adopted by the central bank to control inflation and fairly tight systemic liquidity has led to many companies increasing the proportion of foreign exchange funding in their balance sheets over rupees. In the process, companies have saved 200-300 basis points for short-term financing. While it is hard to provide a quantitative estimate of additional offshore borrowings for the remaining year, we will bet on a higher propensity to borrow offshore, as also the fact that financing costs in the western economies have crashed due to massive rounds of quantitative easing followed by central banks around the world.
In your opinion, what action will RBI take in 2011?
In the first quarter of 2011, we will probably see a pause in the tightening cycle as we are yet to see the lagged effects of the 275-basis-point increase in rates at which banks fund themselves in the overnight markets. RBI may be on a pause mode in its next one or two meetings, which, in turn, may provide a short window of opportunity for fixed income traders. With PSU divestment on track, there may be slight reduction in the government issuance programme, which will be a short-term booster for the bond markets. Thereafter, a view will depend on how the larger world economies fare in the second quarter and beyond, and how inflation picks up in these economies.
The rupee has been catching all experts on the wrong foot. What outlook do you see for the currency over the next six months?
I am surprised to see it hitting 46 per dollar, largely in sympathy with the year-end squaring off short dollar positions in the world markets. Going forward, we would bet on a moderate rupee appreciation bias in the wake of large capital inflows that India should continue to attract due to strong growth. There is a chance for INR to be trading at Rs 42-43 to the dollar in 12 months or so.